5 Small Business Challenges and How To Overcome Them

We all know that small businesses struggle.

We've all heard that about 50% of businesses fail within their first five years, but we hear less about the 20% of businesses that fade within a year of opening or about the fact that, ten years in, two-thirds of small businesses will have shut their doors.

The U.S. small business sector is in the middle of a crisis. New jobs are on the decline, fewer small businesses are opening than in the past, and small businesses are employing fewer people per business than ever.

These are all key performance indicators of small business health, but they aren't levers that can be manipulated to support the small business space. You can't just survive longer or hire more people without achieving the underlying success that allows such things to happen.

To figure out what's really holding businesses back, Capterra surveyed almost 700 small and midsize businesses (SMBs) about the challenges they face while trying to achieve their goals.

Once we understand those challenges, we can start talking about making real changes to the landscape that will help struggling businesses steady their ship and help surviving businesses thrive.

Below, we'll dive into the five biggest challenges our survey uncovered, along with ideas on how we can go about solving these problems to keep more companies on the playing field and out of the ancient history books.

1. Hiring and retaining the right staff

Finding the right people for the job is a problem for 20% of the small businesses we surveyed and 21% of midsize businesses. In addition, retaining those folks once they show up is a challenge for 15% of small businesses and 21% of midsize businesses.

When businesses have the right people in place, they're able to thrive.

What “the right people" means, of course, varies by business, but the problem is less about defining the term and more about finding those individuals within the population of people searching for jobs.

Warren Buffett once told Nebraska Business Magazine that he looks for three things in employees: intelligence, energy, and integrity. The first two swamp business schools.

So how does a business find people with integrity? And once it has those people, how does it keep them?

Like Gen Xers before them, millennials move jobs on a fairly regular basis. According to Pew, about 40% will change jobs within a year's time, and just around 20% will stick it out for five or more years. How can SMBs ensure they're the ones holding on to the longtimers, avoiding added costs associated with high employee churn?

Small versus midsize businesses

Whereas small companies are more concerned about hiring people, midsize businesses are more concerned about holding on to the talent they already have.

We also found that midsize businesses are extremely concerned about ramping up sales teams in a way small businesses don't yet care about. In our survey, 21% of midsize businesses said growing their sales forces was a major challenge. Just 7% of small businesses said the same thing.

Only 7% of 499 small business respondents are extremely concerned about ramping up sales teams, versus 21% of 200 midsize business respondents

The underlying issue here is that while small businesses need to scale, midsize business need to scale at speed. The latter often have more distributed ownership, which increases demand on management to achieve results. Midsize businesses also want to shake the stigma of being stuck in the middle—not a small business, not a public company, and not acquired—as quickly as possible.

Time spent on hiring new staff is time that slows a business down. While small businesses want to retain the staff they have, they don't face the same setbacks associated with turnover that midsize businesses do.

The future of employment

The rise of the contract worker will change how this problem is perceived over the next five years. Achieving scale will be easier with contractors, because of lower acquisition and onboarding costs.

That said, contractor retention costs—the cost of maintaining a working relationship with a contractor—will likely be higher than those associated with full-time employees, given that hourly rates are often much higher.

Retaining core employees will continue to be a challenge. With unemployment below pre-crisis levels, it's a job-seeker's market. Paying employees well, offering good benefits, and providing clear progression paths are all key to keeping your best employees around.

Solving the staffing problem

On the hiring side, small businesses need to get better at candidate sourcing. Starting with a small pool limits your options and sets you up to spend a fistful of cash only to find a subpar candidate. Instead, cast a wide net by tapping all your social and professional channels.

• Where to start: Finding three to five candidates to interview per position is a good starting point. To get that, you'll need more resumes. Don't take the first thing that comes across your doorstep.

To help bring candidates in, CEB recommends creating a “hiring brand" for your business, which makes it easier to pitch working for your company. The Motley Fool, for example, has a workplace culture blog, highlighting the benefits of working at the Fool for potential employees.

• What else to do: As your business grows and attracts more applicants, you should start using applicant tracking software (ATS). When deployed correctly, you can even use ATS to focus in on specific job applicants. Capterra has a great resource on using ATS to hire Generation Z employees.

Once you make the hire, you have to overcome retention challenges. Start by managing the basic psychological needs of your employees. Make them feel like team members, show them that they're appreciated, and give them opportunities to progress.

Having good performance appraisal systems and employee recognition software can help you collect constant feedback from employees, while giving them the recognition they deserve. Midsize businesses should use as many tools as possible to get an accurate view of how employees are feeling, and to preempt potential turnovers.

2. Using the right technologies

Of all the SMBs we surveyed, 21% said using the right technologies is a major challenge. On the small business side, 17% of those surveyed are struggling with using their tech, while 33% of midsize businesses reported the same troubles.

17% of 499 small business respondents struggle with using the right technologies, while 33% of 200 midsize business respondents reported the same

For midsize businesses, technology is far and away the biggest single hurdle we asked them about. We dug in to determine what it is about technology that makes this such a challenge.

When asked about specific challenges facing businesses planning to invest in new tech, over half said that simply identifying the right technology is a problem. Midsize businesses also frequently cited security concerns (54%) and compatibility with existing systems (50%).

For growing businesses—and even established players in specific markets—the cost of choosing the wrong technology can be devastating. Studies routinely show that ERP implementation, for example, has cost overruns (with total costs averaging millions of dollars) and under delivers on associated promises.

Even at the small business level, the cost of choosing the wrong system can set a business back. Free systems require training time, and moving away from any technology comes with switching costs and potential data loss.

Small versus midsize businesses

While both sides of the SMB divide have associated switching and training costs, those expenses are lower for small businesses. With fewer employees to train and less data to maintain, it's easier for smaller businesses to correct after making a misstep.

Small businesses are also more likely to use the cloud for daily work. Of all the computing they do, 83% of SMBs' work is done in the cloud (compared to 75% of enterprise operations). Cloud software often includes lower startup costs with higher monthly maintenance bills, which effectively lowers the switching costs associated with transitioning to better systems.

On the other hand, small businesses are more dependent on consistent cash flow, which can be severely degraded by even small additional costs. We found that managing business financials is a problem for 23% of small businesses, which can easily topple when things don't go according to plan.

We're getting better at picking software

Though failed implementations will continue to be a risk, businesses are getting better at making decisions about the software they use. Increased connections and information sharing have made software choices more transparent. There are still hurdles in pricing and training, but feature comparisons and scaling are easier than ever to understand.

The same study that looked at ERP cost overruns also looked at successful implementation. Though the number of businesses that have experienced a cost overrun has risen, those that report receiving less than half of the anticipated benefit of their new ERP has fallen.

That means we're better at predicting the value of software, even if we're still struggling to predict the costs associated with propping a system up. Even if SMBs choose the “right" system—the one that solves their issues—it's still possible to end up with the wrong solution.

Of the 15—or 1,500—options available for any industry's issues, only five will be market leaders in ten years. Meanwhile, the majority of today's software options will be relegated to the bin. Betting on the losing team is the same as buying software that fails to deliver on its promise.

Making smarter software decisions

Online review services for business software have made buying substantially easier, especially for small businesses.

• Where to start: Companies like Capterra and Software Advice offer everything from user reviews to personalized buying guidance, all with a focus on the SMB market.

The increasing popularity of APIs and transferable data also support businesses making good software decisions.

• What else to do: APIs make it easier to integrate systems and connect with business data. Transferable data reduces the switching costs associated with failed implementations or rapid scaling.

The accounting industry is full of competitors that make shifting allegiances relatively painless. A QuickBooks Online client, for example, can export their entire dataset and move it seamlessly into Xero. Not having to recreate business-critical data gives buyers peace of mind, even when making new purchases.

3. Increasing operating costs

Businesses overwhelmingly want to increase their revenue, but managing costs will remain a goal as long as the world cares about profit. Across all businesses surveyed, 15% said increasing operating costs were a challenge for their business.

As businesses grow, so do their day-to-day bottom lines, regardless of profit. In theory, businesses hope that investing more in their operating costs is a reflection of the health of their business, but when profit stagnates and operating costs increase, business owners start to worry.

Small versus midsize businesses

Big picture, operating costs are a function of the other challenges highlighted in this article. Small and midsize businesses differed in their reported perception of increasing operating costs being a challenge, with 13% of small businesses calling out operating costs compared to 21% of midsize businesses.

Reducing operating costs

Why do operating costs increase? At a surface level, businesses could assume that increased growth would lead to increased operating costs, and therefore a decline in profit.

That's true. But sometimes, taking a small financial hit and increasing operating costs to adopt better business practices down the line is a risk worth taking.

• Where to start: Things like investing in technology can spur short-term fluctuations in operating costs while resulting in greater profit in the long run. Part of being successful is recognizing when an activity's efficiency can be increased.

Thirteen percent of businesses surveyed reported that the challenge of changing existing business processes is holding them back from achieving their business goals.

• What else to do: Movement toward efficiency and subsequent operating cost reduction is a smart choice for all businesses.

4. Facing increasing competition

In our survey, 16% of respondents cited competitor strength as a major challenge. This is another one that weighs more heavily on midsize businesses than on small businesses. Of small businesses surveyed, only 16% worried about competition, while 24% of midsize businesses reported concerns.

Of 499 small business respondents, 16% identified increasing competition as a challenge, while 24% of 200 midsize business respondents reported the same

While competition showed up third on the list of concerns, it topped the list when we asked firms what was going to shape their organization's business goals.

In total, 41% of businesses reported competition in their industries as a major external factor shaping their goals. That broke down into 43% of small businesses and 34% of midsize businesses. Meanwhile, global competition took a back seat, with just 21% of businesses identifying it as major external factor.

The divide between challenges and factors shaping businesses comes down to two points. The simplest explanation is hubris, a small amount of which is healthy for a business. Many companies don't see other brands as genuine competitors, especially new entrants. Our survey found that fewer than 20% of SMBs see disruptive models and new entrants as shaping their goals.

Second, many small businesses operate in industries where a rising tide lifts all boats. Undersaturated markets or vertically diverse markets—home renovation or legal services, for instance—are less impacted by new entrants, as those players don't take a chunk of the existing players' pies. This is more common at the small business level than the midsize level.

Small versus midsize businesses

As businesses grow in size, their market share increases and the number of direct competitors decreases. That means larger businesses have to define themselves against their competitors more directly.

Smaller businesses often cover regional or niche markets, which allows new competitors to enter the space without having a major impact on existing businesses.

On top of size concerns, a growing economy tends to dampen the impact of competition, as more customers spend more money. Lost revenue is accounted for by market growth.

We saw this reflected in the goals of companies we surveyed, as well. Growing revenue is a major goal for 61% of small businesses and 50% of midsize businesses. Conversely, just 34% of small and 35% of midsize businesses are interested in prioritizing reducing costs.

34% of 499 small business respondents reported prioritizing cost reductions when conducting business, compared to 35% of 200 midsize business respondents. Conversely, 61% of 499 small business respondents prioritize growing revenue versus just 50% of 200 midsize business respondents

Competition depends on markets and economic trends

Some industries depend on open competitive spaces more than others, which changes their concerns about competition. Healthcare providers, for instance, have high startup costs and fixed customer groups, even in a growing economic landscape.

Salary levels don't impact healthcare demands in a meaningful way, which might explain why 26% of healthcare providers we surveyed reported competition concerns. They are all fighting over a fixed, albeit relatively consistent, pool of patients.

Another iteration of this sensitivity-to-competitor strength is found in businesses in the manufacturing and natural resources industry (23%), which are also competing over finite resources.

Overcoming competitive challenges

• Where to start: When faced with new competition, businesses have two options. They can either alter their offering—features, price, and service—to meet the challenge presented by the new entrant, or they can pivot.

Nature provides a great example of how a company can survive with increased competitive pressure by shifting its niche. The competitive exclusion principle says that species can't peacefully coexist if they both need the same resources.

To avoid extinction, businesses have to adapt.

One of the major problems midsize businesses face is the need to defend turf to maintain revenue levels. This can often lead to pricing wars, which end up being a race to the bottom.

• What else to do: Instead, businesses should use forecasting tools and employ pricing and development strategies to build a unique sales proposition, allowing them to avoid the deflationary pressures of a pricing war while maintaining their market share.

5. Protecting business data

Employing data protection and security measures was cited by 16% of surveyed businesses as a significant challenge. Once again, midsize businesses were more worried about the impact of security systems than small businesses.

Security was the second most noted challenge for midsize businesses—behind choosing the right technologies—with 26% of 200 respondents calling it out.

High-profile data breaches such as the Equifax hack and POS hacks at major retailers have made this an even more pressing issue for businesses. On top of bad press and regulatory concerns, businesses that hold customer data also need to be concerned about potential litigation if they fail to protect the data entrusted to them.

On top of all that, there's not a clear cut, one-size-fits-all system for protection. That means choosing the right technology all over again, compounding the anxiety businesses feel when dealing with data.

Midsize businesses, particularly, are going to feel the sting of regulations regarding the protection of client information.

Small versus midsize businesses

Small businesses—with just 12% of respondents calling security out—are much less likely to have to worry about customer data, in part because of number of customers. Fewer clients means less data to protect, but it also means there's less of a chance they'll be targeted.

Only 12% of the 499 small businesses surveyed cited employing data protection and security as a challenge, while 26% of the 200 midsize businesses surveyed said the same

According to the GSA, regardless of size, all businesses are subject to personally identifiable information (PII) regulations and guidelines. Part of the difficulty is that PII regulations are not clearly defined, as they're constantly shifting depending on available information.

Midsize businesses generally have more data points to connect, making them even more exposed to breaches and hacks.

Hacking gets worse before it gets better

According to CSID (an identity protection company whose services are offered by Experian Partner Solutions), one of the reasons small businesses are less concerned about security is that they don't realize how much risk they face. Over half of the firms CSID surveyed haven't invested security because they don't think they store relevant information. In reality, over two-thirds store email addresses and phone numbers.

As hackers get more sophisticated and data moves more often from system to system, new holes will inevitably open up in business security. Those holes represent opportunities for loss and lasting damage. A single, subsequent lawsuit can wipe out a small business overnight.

Those risks grow exponentially when businesses fail to upgrade their systems in a timely manner. A recent study on security found that over half of businesses are still running Windows XP—despite the fact that the system hasn't been supported for over three years.

Business security is, unfortunately, often like the deadbolt on a front door. People only notice how weak it is after the door has been kicked in. Despite repeated wake-up calls, businesses are still undervaluing data security.

In our survey, respondents working in IT were clearly more concerned about data security than those in other roles. IT professionals placed data security just behind choosing the right technologies—with 22% versus 25% (respectively) citing it as a challenge. For non-IT respondents, security didn't even crack the top ten concerns.

Outsourcing data security

One of the easiest solutions for securing data is to outsource it. There are hundreds of security options available with varying degrees of sophistication, offering businesses not just a way to manage security but also a potential buffer between them and client litigation.

• Where to start: Unfortunately, not all systems are created equal, and businesses need to conduct their due diligence when choosing a provider. Different levels of encryption, access, and physical storage mean real differences for the security of underlying data.

On top of that, legal and regulatory issues can affect the requirements each business faces. Health records, for instance, have different storage requirements from email addresses. As a final layer of complexity, businesses have to decide how willing they are to work with firms that can be compelled to reveal client data.

• What else to do: Pending legislation and law enforcement requests are likely to drastically change the way corporate data storage is managed and overseen in the next five to ten years. That poses new questions to businesses that store communications or other sensitive and legally relevant information. Small businesses need to consider the potential for increased regulations and plan for their data security to evolve over time.

Lesser challenges reported by businesses

What is also interesting about our survey data is which challenges small and midsize businesses reported less often as potentially hindering their business goals.

For instance, only 8% of small businesses and 12% of midsize businesses cited having limited access to cash as a challenge. Perhaps a tad ironically, members of the banking and financial services industry and of the government indicated that limited access to cash is a challenge to reaching their business goals (at 14% and 25%, respectively).

Similarly, only 6% of small businesses and 13% of midsize businesses cited a lack of marketing capabilities as a problem. This makes sense, considering that CRM software was reported by 77% of 699 SMBs respondents as the most critical technology for businesses.

There are more than 5 concerns

Obviously, SMBs have to deal with more than these five challenges.

Take a look at the top ten challenges from our survey:

Summary bar chart of the top ten reported business challenges (top five highlighted in orange)

At a glance, both small and midsize businesses cited regulation compliance (15%), executing projects (14%), and growing their sales force (11%) as additional challenges to achieving their business goals.

As a business owner, the odds are stacked against you. With this research and recommendations in hand, you can start overcoming these common business challenges sooner rather than later.